The Basis Says The Bitcoin Bottom Is In
I did not really want to write this article, but I am convicted to do so since in my first article Blowing Out At The Bottom With A Smile I said I was no longer trading and did not plan to trade until at least November. https://medium.com/@homeytel/blowing-out-at-the-bottom-with-a-smile-702cb96b8ea6
Well, I started to trade so again this evening May 8, 2018 so I am obligated to make this known and outline the reasons why.
I am somewhat different than many technical analysts, in that I am more of what can be described as a position trader than a technical trader. My position is to hodle bitcoin. I use technical analysis, but only as a means to lighten or add to my bitcoin position. Or put another way, I use technical analysis as short term entry and exit tools.
I find it amusing the root of the word analysis appears to be anal. It is amusing because I have been there and done that. Technical traders tend to be anal, which is not a good thing or a bad thing per se. It is what it is. And a good technical trader must be somewhat anal.
But it can be overdone and I can easily go there and have done so many times. Endless debates of probabilities with no definitive resolution is fun but not really productive.
Pulling The Trigger
The root of analysis is not anal, but ana which means up and leuin which means losen. So to talk shop is a relaxing. It is way technical analysts loosen up without coming to anything definitive. Too much analysis can lead to either over-trading or being unable to pull the trigger at all.
Unable to execute a trade when a trade should be made is almost as bad as over trading. I say almost because in the later a trader can be wiped out. In the former a trader is unable to capitalize from his own expertise. Opportunity lost is perhaps better than opportunity squandered, but does not lead to successful trading.
The bottom line is that it is a balance. I decided to take a sabbatical from trading just so I could gut check that I had the ability to do so. And while my original plan was not to resume until November, the market is telling me otherwise. Especially since I missed the trade I was looking for in first quarter 2018. So I bought back in a speculative position at an average of $9,050.
Defining The Trend
Bitcoin is fickle. What happens in days or weeks can take months or years in traditional markets. That said, bitcoin price behavior is not much different than traditional markets if you take a long term perspective.
As a position trader I first take into account fundamentals which is bullish for bitcoin and beyond the scope of this article. I then look at weekly, monthly and quarterly charts. These are long term charts. Daily charts are short term and do not come into play.
I define the bitcoin trend on the weekly chart. Again, this is to define a trend and is not necessarily the way to enter a trade.
I define an uptrend in bitcoin when we are trading above a two week high and a downtrend when we are trading below a two week low. Again, this is simply a way to define a trend and is not necessarily an entry or exit point.
Further, I put great emphasis on monthly and quarterly charts. When we were in a downtrend I was looking to sell bitcoin in March if it took out the February high because the trend was down. It came very close but could not do it.
March is also the end of the first quarter and the bitcoin market closed very close to the low. The very best analysts, including myself, saw no technical reason for the April reversal. I have been selling bitcoin since December to cover all outstanding fiat obligations and while I stopped trading in March I still did mental trading, and had I been trading I would have bought the dip below $7000 in the first part of April with a risk of the first quarter low despite the absence of technical indicators.
Bitcoin Basis Is A Reliable Fundamental Indicator
“Basis” is defined as the difference between the spot market and futures market. In gold, futures trade higher than the spot market 99.9% of the time and is the reflection of interest rates and storage costs.
Not so in fickle bitcoin.
Bitcoin should reflect carrying costs. At least interest rates.
Storage costs? Well, storing bitcoin is also a very risky business. While there is no monthly bitcoin storage fee like in gold (except perhaps the cost of a Trezor), bitcoin scarcity and the risk factor of storage is much higher than gold. This is reflected in the carrying charge.
In January the June futures where trading at a price that reflected substantially more than full carrying charges. At times over $2,400 premium. In the first week of April June futures were at a $250 discount. https://www.tradingview.com/x/TyGugrar
The bearish sentiment in the September futures were even more profound. https://www.tradingview.com/x/VvvpxFHF
What I want to emphasize is that technical tools are subordinate to money management and fundamentals.
Just as the extreme carrying charges were indicative of bullish exuberance and the top in December and January. The equally extreme backwardation and bearish sentiment was an indication of a bottom in March and the first part of April.
Basis is not a timing indicator because basis extremes can go to new extremes, but basis extremes do provide the strategy on how to treat a market. In December the market could have continued up but with the huge futures carrying charges any potential speculative gains would be marginal compared to the risk. In March and April the market could have continued down but the futures were discounted to an extreme where it was the cheapest bitcoin in all the world. Extremes in the basis acts like a rubber band pulling the market back from the extreme.
With March being the end of the quarter, I would have established a sizable position on the dip below $7,000 with a stop loss below the 1st quarter low. The backwardation does not forecast the market but it does provide trading opportunities with high return and minimal risk. And it was the basis that pulled bitcoin back from the abyss.
When the market crossed the two week high at $8,420 the trend changed and I would have added to my position and the stop is now the two week low at $8,650 and looking to sell in an overbought situation. That is how a position trader trades.
The recent pull back provides a decent trading opportunity with a limited and well defined risk. Just as I stopped trading in March as an exercise in market discipline, I exercised my discipline by pulling the trigger on a low risk trading opportunity. A good trader does not forecast, he simply measures potential risk against potential reward and takes action.